Tag Archives: austerity

Reinhart Revisited

220px-Carmen_M._Reinhart_-_World_Economic_Forum_Annual_Meeting_2011Really, Huffington Post?  Ridiculing an advance copy of a research paper because it has the wrong date?  Grow up!  This is the latest in a string of juvenile attacks on Carmen Reinhart and her sometime collaborator, Ken Rogoff.

The left has an unreasoning contempt for Reinhart and Rogoff, because of this study linking high national debt to weak GDP growth.  That’s called “pro-austerity research.”  In the world of Huff Po, economists do research to support political beliefs.

Giving equal time to the right – they hate this latest paper, because the authors recommend a course of financial repression.  If Huff Po’s Mr. Gongloff had actually read it, he would have found much cheery “anti-austerity” news.   Prof. Reinhart has written on financial repression before, without Rogoff.

As usual, the best approach is to ignore the media, read the paper yourself, and draw your own conclusions.  The New York Times has decent coverage of reactions to the paper.

Assuming taxes ultimately need to be raised to achieve debt sustainability, the distortionary impact is likely to lower potential output. Of course, governments can also tighten by reducing spending, which can also be contractionary.

By the way, the earlier hated paper has not been “debunked.”  Yes, it had some errors, but they were not material.  What you saw in the popular press was politically biased.  The authors never claimed that correlation was causation – although it wouldn’t be surprising.  Does anybody really believe you can run national debt at 90% of GDP and not pay any kind of price for it?

Jeremiah has read a lot of Ms. Reinhart’s research, and she is very thorough.  Check out her page on the NBER website.  Most economists, we suspect, would prefer to discuss their research in peer reviewed journals without the glare of political attention.

No one gets fired from Harvard for saying that dinosaurs had feathers, or that Pluto is not a planet.  What the biased press fears from economics is research that challenges a political position.  Rational people will use new research to evaluate their opinions, not vice-versa.

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Resist Nazi Bailouts!

nazi-merkelThe various tactics used by the ECB to bail out failing Euro nations all amount to the same thing – transfers of wealth from German taxpayers to bankrupt nations in the South.

This is not to play on national stereotypes.  Individual Greeks may work as hard as individual Germans.  Their elected leaders, however, have followed unsustainable policies.  Greece did not go bankrupt through random chance – nor Italy, nor Spain.

Corrupt, bloated and inefficient, its public administration has come to a standstill; tax officers no longer able to receive bribes or kickbacks have simply stopped working.

German leaders did their proper job of balancing the national budget, curtailing social spending, fighting inflation, raising the retirement age, raising tax revenue, and stimulating industrial production.  Now, the EU is asking Germany to shoulder the debt burden accumulated by years of feckless policy elsewhere on the continent.  It is simply infeasible, not to mention immoral and illegal.

The Union shall not be liable for or assume the commitments of central governments, regional, local or other public authorities.

The founding treaty specifically forbids sovereign bailouts.  Much of the energy exerted by EU and ECB deliberations, since the crisis began, has been in circumventing these provisions.  Not only the news media, but official representatives, have branded Germany “selfish” for not pitching in more, and for attaching strict terms about repayment.

Pity Chancellor Merkel.  At home, German voters wonder why they must pay to support foreign spending.  Abroad, she is reviled for not being more liberal with German money.  The correct response would have been “nein, danke,” right from the beginning.

We would stand on the “no bailouts”’ clause and, if these other countries cannot manage an internal devaluation, as Estonia did, then they are welcome to quit the Euro and devalue some other way.  The spite could not possibly have been worse, and Germany would be billions ahead.

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Save the Checks!

US-Uncut-DC-logoJeremiah lives for ironic inconsistency – on both sides of the aisle.  Today’s topic is sustainability.  All across Europe, young people are protesting against cuts in social programs.  They are demanding their governments continue to pay for social benefits, like “free” health care in the UK.

Of course, UK Uncut is right to pursue tax evaders – that’s half the problem.  Their main idea, though, is that government is obliged to support its citizens.  This is a completely new theory of government!

The hard fact is that all government is a net cost to the taxpayers.  Government does not produce goods for export, and it does not have an infinite supply of money.  The citizens, in aggregate, support the government – not vice-versa.  “Tax the rich” is just a smug way of saying, “I am financially illiterate.”

So, President Hollande slaps the rich with a punitive tax – and Bernard Arnault decamps to Belgium.  This is pure symbolism, a distraction.  In America, our spending exceeds revenue by 100% every year!

Here is the ironic part.  These young, socially aware people are quick to tell you that burning fossil fuel is not sustainable.  Logging?  Not sustainable.  Meat?  You get the idea.  Mr. Clegg should adopt the language of resource scarcity:

“We’re sorry your dole check is smaller this month.  You see, the money pool is drying up and we’re having to harvest them before they can grow to maturity.  If we don’t act to save the money pool, we may see the dole go extinct altogether.”

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Defying Gravity

Here is yet another NYT article demonstrating that socialists do not understand the law of gravity.  This seems more like a religion than a school of economics.  The author believes that workers, in Greece and elsewhere, “deserve” a certain wage and a certain standard of living.  These will be set by the government, and agreed by – you guessed it – those same workers.

The fact is, wages are falling in the formerly rich world because our workers are not competitive with workers in Asia.  Jeremiah’s thesis, contrary to the author, is that living standards are inevitably linked to economic value in the real, global economy – not nominal wages, and not the local socialist government.  Here is a point-by-point debunking of Mr. Tilford’s arguments:

  • Income has not magically “accrued” to the those at the top – they earned it.  On the bright side, the rich are no more immune to competition than the proletariat.  Better redistribute their wealth while they’ve still got it!
  • A steady decline in investment or “unfair” returns to capital?  Which is it?  Maybe it’s capital flowing to more productive parts of the world.
  • A “structural shortage of demand” and “recovery in consumption” are obvious appeals to Keynes, but how much debt-financed stimulus is required?  How many willing lenders remain?
  • A rise in the share of national incomes accounted for by wages, in real terms, can only come from increased competitiveness.  Monetization and redistribution are palliative measures, not solutions.
  • Executive remuneration is already linked to whatever the owners of firms believe is their best risk-adjusted return.  The idea that governments should meddle in how private firms pay their employees, including their executives, shows a basic ignorance – let’s say “mistrust” – of how capital markets work.
  • Jeremiah has no quarrel with redistribution, per se, except that it in practice it usually turns to graft and bloat.  In Europe’s case, agreed, the VAT is regressive.
  • Taxing investment returns, once again, assumes that all investors are fat cats.  They’re not.  They’re ordinary people trying to save for a rainy day, a new house, or retirement.
  • The author asserts that competitiveness is a zero-sum game.  We should all beg off austerity and print money instead.  Oddly, the world’s creditor nations complain about that being a zero-sum game.

Mr. Tilford’s arguments are socialist dogma, but he is right about public opinion.  Voters will associate structural reforms with declining living standards – correctly, because declining standards are inevitable.  If a Chinese worker can do the same job as a Greek worker, then the two will ultimately share the same living standard.  What’s unfair about that?

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Bonds and Discipline

James Carville once quipped, “I want to come back as the bond market, because then you can intimidate everybody.”  As we watch the riots now engulfing Europe, few outside the financial markets recognize that the trigger was a spike in bond yields.  This is a fiddly concept, and it doesn’t get much air time.  To understand the European crisis, and the potential American crisis, it is worth understanding the bond market.

Everyone agrees that America’s deficit spending is unsustainable. Our national debt is about 100% of GDP, which puts America in the same league as Greece and Spain, plus we have state and local debt.  Greece’s gross debt is roughly $500 billion.  That’s a lot for Greece, but America’s $16 trillion could seriously damage the global financial system.

Democrats propose to solve the problem by raising taxes and cutting defense spending.  Republicans propose to solve it by reducing the size of government and “reforming” entitlements.  Both sides expect help from economic growth, again using stereotypical policies – government spending, and deregulation, respectively.  All the bond market wants is to get paid.

America borrows roughly $1 trillion each year.  Tax receipts cover about 60% of our expenses, and we borrow the rest.  Interest payments on the national debt amount to $360 billion per year.

We need to borrow continuously, to pay for – well, everything, from the armed forces to social security.  We borrow by issuing bonds in the open market.  Investors – like banks, pension funds, and China – support our lifestyle by paying cash for our bonds.

America has historically been a good credit risk, and we can borrow at roughly 3% APR.  Eventually, though, bond buyers will start to worry about getting paid back.  When that happens, our APR will go up.  It’s just like the effect your FICO score has on your car loan.

The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short

America took the first step down this road last year, when our credit rating slipped from AAA to AA+.  The rating agencies, led by S&P, wrote that they had concerns about our ability to enforce fiscal discipline and bring down the national debt.  Again, this is no different from an auto or a home loan.

The bond market is not partisan in its approach.  They don’t care if we jack up tax rates, slash spending, and wheel grandma over the cliff – as long as we make the payments.  This is known as “austerity” in policy circles.  If you have ever had a discussion with a debt collector, you understand this perspective.

The only brake on the bond market’s appetite for austerity is the recognition that too much of it could throw the economy into recession, and reduce our ability to pay.  This is the debate currently going on in Europe – how much austerity can the governments of Spain, Italy, and Greece withstand?  Continuing the analogy, “if you repo my car, then I won’t be able to work and for sure you won’t get paid.”

You can tell old Jeremiah is having a digression here.  The point is, one fine day Uncle Sam will go the bond market and instead of 3% APR we are going to get 7% APR.  That’s what happened in Europe, and it happened suddenly.  Seven percent of $16 trillion means over $1 trillion just in interest payments.  That’s a full year’s deficit spending right there.

If you can’t enforce fiscal discipline, the bond market will do it for you.

Remember last year, when President Obama went on TV and said, “I don’t know if I’ll be able to pay social security,” unless Congress raises the debt ceiling?  At that point, we faced an artificial debt limit, imposed by law, and Congress changed the law.  The real debt limit is imposed by the bond market and, when we hit that, there will be no changing it.

This is what people mean when they say, “if you can’t enforce fiscal discipline, the bond market will do it for you.”  The kids throwing rocks and burning buildings in Europe seem to believe that someone will magically kick in an extra billion or so, to get them over.  Maybe they’re right.  Maybe Germany has that kind of money, but nobody has what it takes to bail out America.

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Iron Fist Dictator You Deserve

Two new plays about Joseph Stalin are opening in London.  Two!  Why so much interest in Uncle Joe?  The answer jumps out of The Economist’s review – craven people get the callous rulers they deserve.

American voters, and European voters for that matter, support politicians who tell them what they want to hear.  If someone tells the uncomfortable truth – whether it’s Bill Clinton, Paul Ryan, or Jens Weidmann – we don’t want to hear it.  The truth is that Western economies are getting crushed by foreign competition, and we can no longer afford the quality of life that we have come to expect.

From Amsterdam to Athens, voters angry at unemployment and austerity are turning to protest parties.

Will voters support longer working hours, later retirement, and reduced benefits?  Why should they?  There will always be some smooth talker with an easier solution.  Blame the “grand bourgeoisie,” as they say in Europe.  Blame the Jews.  Blame the kulaks.  Vote for Francois Hollande, with his 100% marginal tax plan.  Genius!

So, here is Jeremiah’s bleak forecast for Western democracy.  As one economy after another feels the pinch of austerity, voters will turn to socialists, and nationalists, and National Socialists.  Don’t think that it can’t happen here.

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